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James Sullivan
 

CPAs and the Art of Communication

How you can help nonprofits meet the demands for accountability and transparency.

June 15, 2009
by James Sullivan, CPA, PFS

In my last article, I revealed how CPAs often encounter internal communication problems with executives and board members of nonprofit organizations and how those problems can be addressed. This article focuses on external communication and how CPAs can assist nonprofit organizations tell their stories to current and potential donors.

Greater accountability and transparency are being demanded by donors. At the same time, the redesigned IRS Form 990 — Return of Organization Exempt From Income Tax — is requiring more information on governance, executive compensation and conflicts of interest. As a public document, the Form 990 will serve as a marketing tool for well managed organizations.

According to Margaret Linnane, executive director of the Rollins College Philanthropy & Nonprofit Leadership Center, it is the simple things that sometimes indicate whether a nonprofit organization is well managed. For example, how current is the organization’s Form 990 posted on GuideStar’s Web site? Lack of attention to a detail such as the timely filing of the Form 990 can cause current and potential donors to go elsewhere with their dollars. Increasingly, Linnane points out, donors are considering their donations as “investments” and want to “invest” only in well-governed, effective organizations. In order to be in the best position to determine this, donors are requiring more accountability and transparency from nonprofits — and the redesigned Form 990 (new for the 2008 tax year for returns filed in 2009) will be an important part of that process.

Whether CPAs assist in a professional capacity preparing the Form 990, audit the financials or are board members of an organization, they can play a key role in making the organization more accountable and transparent. Form 990 is open to public inspection and is available on the Internet. According to Linnane, it will become an important marketing tool for well-run organizations. It will be more than just a compliance document — it will communicate the organization’s story to potential donors.

Through the redesigned Form 990 the Internal Revenue Service (IRS) is taking an increased interest in the governance practices of nonprofit organizations. In its publication Governance and Related Topics — 501(c)(3) Organizations (available at www.irs.gov; available as part of the IRS publication Life Cycle of an Exempt Organization) the IRS states:

“A charity that has clearly articulated purposes that describe its mission, a knowledgeable and committed governing body and management team, and sound management practices is more likely to operate effectively and consistent with tax law requirements.”

As an indication of its growing interest in governance practices, the IRS points to the redesigned Form 990 and the new section (Part VI) on governance, management practices and disclosure.

When it comes to the organization’s finances and meeting compliance and filing requirements, Linnane recommends that CPAs acting as board members should first assess the strengths and weaknesses of the organization’s chief executive officer (CEO). The CEO may have little or no business background. If that is the case, CPAs will have to determine how much internal support the CEO has been provided — is there a chief financial officer (CFO) or controller on staff to handle the reporting and compliance functions? If not, the CPA may have to play an active role in seeing that financial statements and the Form 990 are properly completed. But the CEO may not be the only one in need of assistance when it comes to understanding the financial reporting and compliance issues.

In Governance and Related Topics the IRS provides:

“Governing boards should be composed of persons who are informed and active in overseeing a charity’s operations and finances.”

While many board members may have business backgrounds, few may have the capability of reading and understanding an organization’s financial statements and Form 990. CPAs can assist other board members meet their responsibility to be informed and active by helping them understand how to read the financials and the 990 and what the numbers mean to the success of the organization’s mission and its ability to raise funds.

Form 990: Statement of Functional Expenses

Of particular importance to Linnane is that executives and board members have a good understanding of “functional expenses.” Nonprofit organizations are required by SFAS 117 to report expenses by functional classification. Functional expense reporting is also required in the nonprofit’s tax filing. In the redesigned Form 990, the Statement of Functional Expenses appears as Part IX.

Under functional expenses reporting, the organization’s expenses are divided into:

  • Program service expenses (how much is spent actually fulfilling the organization’s mission);
  • Management and general expenses; and
  • Fundraising expenses.

There is a problem, however, with the numbers as reported currently by many organizations. The Nonprofit Overhead Cost Project found serious errors in how functional expenses are reported in both the Form 990s and in audited financial statements. The IRS has also observed “significant errors or omissions” in the reporting of executive compensation. Due to these errors, the IRS has stated that executive compensation practices will be a focus during its examinations.

This does not surprise Todd Ruopp of Unleashing Performance, a consulting firm that works with nonprofit organizations. He finds inconsistencies in the way nonprofit firms report expenses. Whether as a board member or in a professional capacity, CPAs must take the lead addressing poor accounting and reporting practices.

Both Ruopp and Linnane agree it is important that board members understand the numbers as reported both in the financial statements as well as in the 990. These numbers are what donors and their advisors are looking at in evaluating nonprofit organizations. Some states, according to Linnane, require that the program service expenses equal 75 percent or more of the functional expenses. While this may be the state requirement, Linnane believes organizations should aim higher — for program service expenses of 85 percent.

Linnane believes most nonprofit board members do not yet fully appreciate how widely the Internet is used by donors to access and review the Form 990. If not, “they should,” says Linnane, “and recognize the Form 990 as a marketing tool. If the Form 990 on guidestar.org is not the most current one — or is a really old one — the viewer might make assumptions about the management of the organization.” Even the IRS has described the new Form 990 as allowing the nonprofits a better opportunity to “tell their story.”

Conclusion

CPAs can assist nonprofit organizations by telling their story. The story has recently expanded beyond just a description of the mission and now includes accountability and transparency, governance and management. Well-run organizations with executives and board members who understand the importance of proper reporting and compliance will tell the best stories and be able to respond to the demands for greater accountability and transparency.

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James Sullivan, CPA, PFS, MAS, is Investment Counselor at Core Capital Solutions LLC and has almost 25 years of experience in individual tax, investing and personal financial planning. Before joining Core Capital Solutions LLC as an Investment Counselor, he spent over 20 years at Arthur Andersen LLP specializing in financial planning, investments and individual tax planning. His primary focus today is assisting his clients enhance their overall retirement through proper investing, goal setting and tax planning.